Wednesday, December 17, 2008

The Fed’s New Goose Egg

I didn’t think they would do it. But they did. The Fed effectively cut the Fed Funds rate to zero. And it sounds like they plan to keep it there for a couple of years.

The Fed Funds rate is just a benchmark, so it doesn’t mean you can go borrow money for 0 percent interest. But almost. More importantly, it means your bank will pay you 0 percent interest on your savings account. Or something very close to that.

What does 0 percent interest mean? Imagine that you’re on a baseball team. You’ve been playing for two or three hours, and you look up at the scoreboard in the ninth inning, and it says your team has 0 runs. That’s what they call a goose egg — and that’s about what it feels like when you’ve been keeping money in your savings account all year and your bank says it’s paying you 0 dollars in interest.

Believe it or not, that’s the point. The idea of interest rate cuts is to get people to stop saving money. The theory is, if saving money doesn’t pay, you’ll spend more of your money, and get the economy moving again.

That is such a crazy idea it just might work. But in this case? I don’t think so. Lots of consumers are flat broke already, and others are close, and no one seems to think that this is a good time to spend till you’re broke. Worse, many consumers have no money of their own — they’re in debt, and paying not 0 percent interest, but something close to 20 percent interest.

This divergence in interest rates is the result of the Reagan Revolution, which took most of the money out of the hands of consumers and gave it to a new investor class. I’m afraid it’s true: billionaires have more money than all the rest of us combined. Billionaires have little reason to borrow money, no matter what the interest rate is. When billionaires do borrow money, it’s some kind of game that has basically nothing to do with the workings of the economy. And most of the rest of us don’t qualify to borrow much money. Which means the government doesn’t really control the money supply anymore — or much of anything about the economy.

That’s how we can have near-zero interest rates.

Zero percent interest is not just about scaring savers out of the bank and into the going-out-of-business sale at Linens-N-Things. The Fed may also be hoping to spark hyperinflation, the kind of persistent high inflation that scares people into buying. Inflation is on the way whether the Fed has anything to say about it or not, but scaring people into buying? Scared consumers this year are trying to pay off all their debts, and rightly so. Scare them more, and they may just do it faster.

The super-low interest rates are supposed to be good for the economy, but no one can make the case that they are good for banks. If banks, no longer able to pay even a semblance of a fair interest rate on savings, lose their depositors, the heart of the banking system will be gone. The Fed could be raising interest rates to 2 percent or so to try to stabilize the economy, but I suppose that is too much to ask. The U.S. economy has taken one blow after another from policymakers this year. I suppose it will have to absorb this one as well.